Risk Management in Supply Chains: Mitigating global supply chain risks in current times

Whenever I think about risk management in supply chains, I am reminded of the McDonalds example.

There can be a few hundred million chickens exposed to risks of bird flu, but not one customer at the store would get any hint of disruption. That is what risk management is all about, being proactive to a disruption, not reactive.

Think of the events that can possibly happen, from quality failures to logistics bottlenecks, disruption could come in many guises. Some chains are immune to these risks, because they create surplus capacity by intrinsic means to absorb these shocks; higher factors of safety is built into their programs. Sometimes the processes become adaptive to demand shocks or supply shocks.

Risk management in supply chains is about mitigating risks through proactive actions. It is not just about Tsunami like events, but the more mundane ones which could be still as life-threatening as the Tsunami for the supply chain in question. The risks could be in quality, cost, inventory, logistics, financial, demand changes, trade policies, political events or natural disasters.

Any change in regulation in any part of the global supply chain could create ripples that could rip apart the whole chain. Think of the sudden change in tariffs or the announcement of special incentives, all meant to spur trade in one direction, but could well disrupt the flow.

Incidence of some risk items could have very low probability, but their impact could be very high. Preparing for such eventuality needs FMEA approach which is about Failure Mode and Effect Analysis; tallying the impact-weights of events with their probability of occurrence is what FMEA does. But what actions you decide based on this approach is where the focus lies.

The world remains a zero sum when any event happens and only those who prepare for it will win with an approach that is less zero sum, as they know how to collaborate to win.

But before that let me remove some myths as risk management is understood by many people in many different ways.

One would associate risk management with financial risks much more than the other kinds of risks in supply or demand, which could be even more potent; financial risk management in supply is again associated with pricing risks, especially for commodities, which has volatility and timing exposures that must be mitigated though hedging of all kinds. Jury is still out on that whether hedging is a fool-proof solution as there cannot be any net gain for the combine, so essentially there can only be some winners and some losers.

But this article is about supply chain risk management, which precludes all forms of risks from challenges in the demand side to that in the supply side. When global supply chains are vulnerable to daily disruptions of all kinds, the complexity of operations together with the variability that one has to grapple with makes this subject far more challenging than possibly we can think of.

Global economies are going through constant churning. On the macro side we have effects of leveraging and deleveraging, investments and savings creating havoc with interest rates, while the exchange rates remain vulnerable to posturing of all kinds. Then you have business cycles and that could play out as long and short; more long cycles is what we are seeing while some say the cycles are getting flatter than before.

Global supply chains have taken enormous benefits from these as sourcing key inputs from the most optimum sources has become easier now. The overall tally is made up just not with cost benefits, but the total cost of ownership principles, which has quality, flexibility, delivery reliability, scalability, inventory management, productivity improvement and technological innovation as key attributes.

In earlier times delivery reliability was a simple measure, now it could well be that the cost of being early is far lower than the cost of being late, or vice versa, so it better be that the supply chain optimization delves into the proper design of the system to achieve the right kind of fit.

When you are slotted for an interview for a job, the cost of being early is nothing compared to the cost of being late.

When you are pitted against a plethora of options, each is trying to compete for the pie of spending, it does not matter whether you are selling books or shoes or apparel or a television. The customer can prepone the purchase or postpone depending on whether you have the option available at all times.

The cost of being early for sale in this case would be much lower than the cost of being late. For that matter marginal cost of being early is almost zero, but marginal cost of being late could be very high.

Designing the risk management options must first solve this puzzle and the solution must be economic as well. By attracting a customer to any merchandise it should never be that the sale fails to generate positive free cash flows. Such an uneconomic solution could only be temporary strategy, not something that could last forever.

Risks in global supply chains given that the global configuration could change with change in policies, could be rising. Preparing for these risks would entail creating alternatives well before the others emulate. Putting all eggs in one basket could well be a risky strategy as always, but spreading risks too thin could also be a costly affair.

I will deal with one risk that is quality risk in this first part of the Risk Management series.

When the bird flu scare was creating havoc in the global supply chains, Mcdonalds was already prepared for it well in advance. The quality processes were created robust enough that if the category of risk changes from Yellow to Red, the tests would also move several notches higher in terms of stringency. This is the classic FMEA approach in action. But that alone cannot serve the demands of the chain as supplies have to be recouped instantaneously.

It is the collaboration across the supply chain between long time partners and all the other associates in the chain that finally matters. In this disruption everyone has to bear the brunt of the loss and share the burden of disruption. That is not the time when tough negotiations would preclude any discussion between interested parties. A quality risk of a gigantic scale has to be dealt with immediate action on the ground where everyone must work seamlessly to solve the puzzle at hand. It would need delegation of authority, far more than what is on paper. It would need an organization that is based on faith, rather than hierarchy.

Managing information, having a real time view and collaborating to solve a multi-faceted puzzle, is where the strong score over the weak.

Risk management in supply chains is about building this medium of exchange, which is based on seamless world view that is tested constantly for transparency and trust with an FMEA approach.

This is my first article in the series, "Risk Management in Supply Chains".